Question 1

If the NPV of project A is + $120, that of project B is -$40, and that of project C is + $40, what is the NPV of the combined project?

Accepted Answer

D

Question 2

You are given a job to make a decision on project X, which is composed of three independent projects A, B, and C that have NPVs of + $70, -$40 and + $100, respectively. How would you go about making the decision about whether to accept or reject the project?

Accepted Answer

By breaking up the project into its components, we can see that Project A has a positive NPV, but the negative NPV of Project B brings down the overall NPV of Project X. Thus, it would be best to accept Projects A and C but reject Project B, resulting in a higher overall NPV.

Question 3

The following are measures used by firms when making capital budgeting decisions except

Accepted Answer

P/E ratio is a measure of a company's current stock price compared to its earnings per share, it is not used in capital budgeting decisions. The other options, payback period, internal rate of return, and net present value, are commonly used measures in capital budgeting decisions.

Question 4

If the cash flows for project A are C₀ = −1,000; C₁ = +600; C₂ = +400; and C₃ = +1,500, calculate the payback period.

Accepted Answer

The payback period is the time it takes for cumulative cash flows to equal the initial investment. After year 1, cumulative cash flow is -400; after year 2, it is 0. Thus, the payback period is two years.

Question 5

Which of the following investment rules has the value additivity property?

Accepted Answer

The net present value method has the value additivity property, meaning that the total net present value of a project is equal to the sum of the net present values of each individual cash flow. This allows for easy comparison and decision making between different investments. The other methods listed do not have this property, as they rely on other factors such as the payback period or accounting measures of profitability.

Question 6

If the NPV of project A is + $30 and that of project B is -$60, then the NPV of the combined projects is

Accepted Answer

To find the NPV of the combined projects, we add the individual NPVs. 
Combined NPV = NPV of Project A + NPV of Project B
Combined NPV = +$30 + (-$60)
Combined NPV = -$30

Question 7

The survey of CFOs indicates that the IRR method is used for evaluating investment projects by approximately

Accepted Answer

The Internal Rate of Return (IRR) method is a popular tool for evaluating investment projects, and a significant majority of firms use it. The correct choice, indicating that approximately 76 percent of firms use the IRR method, reflects its widespread acceptance and application in financial decision-making processes among companies.

Question 8

The net present value of a project depends upon the

Accepted Answer

The net present value (NPV) of a project is calculated by determining the present value of expected cash inflows and subtracting the present value of expected cash outflows. The opportunity cost of capital is the minimum acceptable rate of return that an investor expects to earn for taking on a project. Therefore, the NPV of a project depends on the project's cash flows and the opportunity cost of capital. The company's choice of accounting method or the manager's tastes and preferences do not directly influence the NPV of a project. Profitability index is a related metric used to compare the profitability of different projects, but it is not directly used to calculate the NPV of a single project.

Question 9

The following are disadvantages of using the payback rule except the rule

Accepted Answer

The disadvantages of using the payback rule are A, B, and D. The payback rule only considers the time it takes to recoup the initial investment, disregarding any cash flows beyond that point. It also does not account for the time value of money, meaning that future cash flows are not discounted to their present value. Finally, it does not have the value additivity property, meaning that the payback period for a project can change if changes are made to the project's cash inflows and outflows. Despite these drawbacks, the payback rule is still often used because it is a simple and easy-to-understand metric for evaluating projects.

Question 10

The main advantage of the payback rule is that it

Accepted Answer

The main advantage of the payback rule is that it is simple to use. However, it does not take into account the time value of money or future cash flows beyond the payback period, making it a less precise method of analyzing investments.

Question 11

The survey of CFOs indicates that the NPV method is always, or almost always, used for evaluating investment projects by approximately

Accepted Answer

The question states that the NPV method is always or almost always used for evaluating investment projects by approximately "75 percent of firms". Therefore, the best choice is D.

Question 12

If the cash flows for project Z are C₀ = -1,000; C₁ = 600; C₂ = 720; and C₃ = 2,000, calculate the discounted payback period for the project at a discount rate of 20 percent.

Accepted Answer

First, we need to find the present value of each cash flow. Using a discount rate of 20%, the present value of each cash flow is: PV(C₀) = -1,000/1.2^1 = -833.33 PV(C₁) = 600/1.2^2 = 416.67 PV(C₂) = 720/1.2^3 = 450 PV(C₃) = 2,000/1.2^4 = 947.87 Next, we need to calculate the cumulative present value of the cash flows. We can do this by adding up the present values starting from year 1 and continuing until the cumulative present value is greater than or equal to 0. Cumulative PV Year 1 = -833.33 Cumulative PV Year 2 = -833.33 + 416.67 = -416.67 Cumulative PV Year 3 = -833.33 + 416.67 + 450 = 33.33 Cumulative PV Year 4 = -833.33 + 416.67 + 450 + 947.87 = 981.21 The discounted payback period is the time it takes for the cumulative present value to equal 0 or more. In this case, it takes 2 years for the cumulative present value to reach 0, so the discounted payback period is 2 years.

Question 13

If the net present value (NPV)of project A is +$100 and that of project B is +$60, then the net present value of the combined projects is

Accepted Answer

To find the NPV of the combined projects, we simply add the NPV of project A to the NPV of project B. Therefore, NPV of combined projects is +$160. Project A has a higher NPV than project B, making it a better choice individually. However, if we can invest in both A and B, the combined NPV is even higher than A alone, making the choice of both A and B together the best option.

Question 14

Which of the following investment rules does not use the time value of money concept?

Accepted Answer

The payback period does not use the time value of money concept since it only considers the length of time required to recoup the initial investment. The other investment rules (net present value, internal rate of return, and profitability index) all take into account the time value of money by discounting future cash flows to their present value.

Question 15

The cost of a new machine is $250,000. The machine has a five-year life and no salvage value. If the cash flow each year is equal to 25 percent of the cost of the machine, calculate the payback period for the project.

Accepted Answer

The annual cash flow is 25% of $250,000, which is $62,500. The payback period is the time it takes for the cash flows to cover the initial investment. $250,000 / $62,500 = 4.0 years.

Question 16

Which of the following statements regarding the discounted payback period measure is true?

Accepted Answer

The discounted payback period measure takes into account the time value of money, which means that future cash inflows are discounted back to present value. This helps ensure that the measure accurately reflects the profitability of an investment. The other statements are incorrect: B is incorrect because the NPV rule is generally considered the best measure of investment profitability; C is incorrect because the discounted payback measure only considers cash inflows up to the point where the initial investment is recovered, not all cash flows; D is incorrect because the discounted payback measure does not exhibit value additivity, meaning that it cannot be used to compare investments with different cash flows.

Question 17

Suppose a firm has $100 million in excess cash. It could

Accepted Answer

Each option (investing in projects with positive NPVs, paying high dividends to shareholders, and buying another firm) represents a viable use of excess cash for a firm, aiming to maximize shareholder value.

Question 18

Which of the following investment rules may not use all possible cash flows in its calculations?

Accepted Answer

The payback period rule only considers the initial investment and the cash flows until the investment is paid back. It doesn't consider any cash flows beyond the payback period. The other investment rules, such as NPV, IRR, and profitability index, consider all cash flows over the investment's life.

Question 19

The payback period rule accepts all projects for which the payback period is

Accepted Answer

The payback period rule suggests that a project should be accepted if its payback period is lower than a pre-defined cut-off value. Therefore, option B is correct as it states that projects with a payback period lower than the cut-off value should be accepted. The other options are incorrect as they present incorrect or incomplete information about the payback period rule.

Question 20

The payback period rule

Accepted Answer

The payback period rule requires an arbitrary choice of a cut-off point, which is not based on any objective criteria or analysis. This makes it a less reliable and comprehensive method of investment decision-making compared to the more objective and quantitative NPV rule. Therefore, it is generally not considered a best choice for evaluating investment projects.

Quiz 5: Net Present Value and Other Investment Criteria

If the NPV of project A is + $120, that of project B is -$40, and that of project C is + $40, what is the NPV of the combined project?

You are given a job to make a decision on project X, which is composed of three independent projects A, B, and C that have NPVs of + $70, -$40 and + $100, respectively. How would you go about making the decision about whether to accept or reject the project?

The following are measures used by firms when making capital budgeting decisions except

If the cash flows for project A are C₀ = −1,000; C₁ = +600; C₂ = +400; and C₃ = +1,500, calculate the payback period.

Which of the following investment rules has the value additivity property?

If the NPV of project A is + $30 and that of project B is -$60, then the NPV of the combined projects is

The survey of CFOs indicates that the IRR method is used for evaluating investment projects by approximately

The net present value of a project depends upon the

The following are disadvantages of using the payback rule except the rule

The main advantage of the payback rule is that it

The survey of CFOs indicates that the NPV method is always, or almost always, used for evaluating investment projects by approximately

If the cash flows for project Z are C₀ = -1,000; C₁ = 600; C₂ = 720; and C₃ = 2,000, calculate the discounted payback period for the project at a discount rate of 20 percent.

If the net present value (NPV) of project A is +$100 and that of project B is +$60, then the net present value of the combined projects is

Which of the following investment rules does not use the time value of money concept?

The cost of a new machine is $250,000. The machine has a five-year life and no salvage value. If the cash flow each year is equal to 25 percent of the cost of the machine, calculate the payback period for the project.

Which of the following statements regarding the discounted payback period measure is true?

Suppose a firm has $100 million in excess cash. It could

Which of the following investment rules may not use all possible cash flows in its calculations?

The payback period rule accepts all projects for which the payback period is

The payback period rule

Quiz 5: Net Present Value and Other Investment Criteria

If the NPV of project A is + $120, that of project B is -$40, and that of project C is + $40, what is the NPV of the combined project?

You are given a job to make a decision on project X, which is composed of three independent projects A, B, and C that have NPVs of + $70, -$40 and + $100, respectively. How would you go about making the decision about whether to accept or reject the project?

The following are measures used by firms when making capital budgeting decisions except

If the cash flows for project A are C0 = −1,000; C1 = +600; C2 = +400; and C3 = +1,500, calculate the payback period.

Which of the following investment rules has the value additivity property?

If the NPV of project A is + $30 and that of project B is -$60, then the NPV of the combined projects is

The survey of CFOs indicates that the IRR method is used for evaluating investment projects by approximately

The net present value of a project depends upon the

The following are disadvantages of using the payback rule except the rule

The main advantage of the payback rule is that it

The survey of CFOs indicates that the NPV method is always, or almost always, used for evaluating investment projects by approximately

If the cash flows for project Z are C0 = -1,000; C1 = 600; C2 = 720; and C3 = 2,000, calculate the discounted payback period for the project at a discount rate of 20 percent.

If the net present value (NPV) of project A is +$100 and that of project B is +$60, then the net present value of the combined projects is

Which of the following investment rules does not use the time value of money concept?

The cost of a new machine is $250,000. The machine has a five-year life and no salvage value. If the cash flow each year is equal to 25 percent of the cost of the machine, calculate the payback period for the project.

Which of the following statements regarding the discounted payback period measure is true?

Suppose a firm has $100 million in excess cash. It could

Which of the following investment rules may not use all possible cash flows in its calculations?

The payback period rule accepts all projects for which the payback period is

The payback period rule

If the cash flows for project A are C₀ = −1,000; C₁ = +600; C₂ = +400; and C₃ = +1,500, calculate the payback period.

If the cash flows for project Z are C₀ = -1,000; C₁ = 600; C₂ = 720; and C₃ = 2,000, calculate the discounted payback period for the project at a discount rate of 20 percent.